Q&A: Texas Instruments' China Chief

What's happening in China will be one of the big questions when Texas Instruments ( TXN) reports earnings July 24. Analysts have been fretting that an inventory buildup in low-end cell phones in China, among other places, could weigh on its third-quarter outlook.

But in the bigger picture, TI's China operations also merit a closer look. Last year, the lead wireless chipmaker saw its silicon revenue in China jump 23% to an estimated $2.3 billion, according to iSuppli -- almost double the broader China market growth rate of 13%. In 2005, China accounted for about 17% of TI's worldwide revenue of $13.4 billion.

TheStreet.com spoke with Terry Cheng, who's served as TI's Asia president since 1997, to get a better read on how China is boosting TI's growth. Cheng previously spent a 19-year career with Hewlett-Packard, including a stint as president and general manager for China from 1992 to 1997.

TSC: Some analysts are worried there's been an inventory buildup in mobile phones, part of that in China, and that this might affect TI's near-term demand. How would you respond to those concerns?

Cheng: I have no comment on that. We don't feel that inventory is building up.

Why do you think TI outgrew the broader semiconductor market in China last year?

We grew in all our product lines, but if I had to single out the highest-growth product line, I'd say it was analog. We have a very broad line of analog products, more than 30,000 active components. And we're aiming not only for the large multinationals, but also the small and medium-sized companies as customers .

Looking generally at specific end markets in China, what products are the biggest growth drivers for you?

Wireless infrastructure and wireless terminals.

Speaking of wireless, I understand the carriers have been holding back on capital spending until 3G licenses are issued, which is now expected to happen in 2007. So when the licenses are finally issued and capital spending picks up, to what degree will TI benefit?

Once the licenses are issued, we're expecting a big boost for business in China. Our DSP digital signal processor and analog products are designed into most of the infrastructure, the base stations for WCDMA the successor technology to the GSM/GPRS cell-phone standard or TD-SCDMA a 3G standard developed in China and promoted by the Chinese government .

Also, many of the handset manufacturers are waiting for the license allocation. Until the licenses are issued, they don't know what kind of handsets they will design and produce. So we are expecting the 3G license issue will give us a big growth opportunity.

iSuppli recently pointed out that the growth of chip sales in China has been decelerating from 35% growth in 2004 to 18% this year. That's above predicted global chip revenue growth of 10%, but it still suggests that as the revenue base in China gets bigger, growth is slowing down.

So how does the wireless market fit in here? How much would you expect to see wireless growth decelerate in China in the future?

I don't think the cell-phone market will slow down, for several reasons. If you look at China cell-phone penetration up to the end of April, cell-phone subscribers numbered only 430 million out of a 1.3 billion population . That's less than 40% penetration.

I believe penetration will continue to grow very fast, because there's still a large population who live and work in areas covered by wireless signals but still cannot afford to use cell phones.

With our new low-cost, single-chip cell phone, I believe cell-phone prices will come down and more people will be able to afford them. This one single chip will help reduce at least 20% of the component count on the cell-phone PC board, and that will reduce the cost. That chip will see mass production in the fourth quarter.

Also, we believe there will be more and more applications to add to high-end phones that will stimulate users to buy them. And cell-phone bundling operators subsidizing the cost of handsets for consumers is increasing, and that will stimulate cell phone purchases.

In a place like China, where consumers can't afford to spend as much money on cell phones as in developed markets, how do you deal with margin compression? Do you accept some degree of lower margins but try to make up for it with a greater volume of sales? How do you manage that trade-off?

TI has several advantages in our margins, even though we sell lower-priced products in China . First, TI has volume; we're at about a 50% market share in cell phones.

Secondly, we have advanced manufacturing technology. We're shipping cell-phone chips using 65-nanometer technology a manufacturing technique that squeezes twice as many transistors as before onto a single chip . We're working on 45 nanometers in order to further shrink the chip and reduce the cost.

Thirdly, we have single chip-integration technology, so we'll be able to integrate several components into one single chip. So we have volume, manufacturing technology and system-integration technology to help us maintain our margins.

How have you localized your operations in China? And how has TI marketed itself?

The first element is the university program, which started in 1993. So far, we have set up 121 DSP labs at 105 universities to train students in DSP knowledge and applications. We've trained more than 100,000 engineers since 1996, and we are also helping our customers train their potential employees. That really helps increase our awareness in China.

Second, Chinese companies need a lot of support from TI to choose and use our products. It's a big country with many small and medium-sized businesses. So we set up a very strong technical support-engineering force to jointly design their products.

We have offices in Beijing, Shanghai, Shenzhen and Hong Kong, and this year we added four more branches in other cities . We're moving our resources closer to customers so our response time will be much faster.

We have a pretty good sample delivery product, with more than 5,000 parts available to deliver. So if you ask for a free sample, we can deliver it in two days to any city in China.

Third, China is developing very fast, so many local customers are trying to design and produce the most advanced technology and products. So we're developing software to meet local needs. We also have reference designs to help them have a time-to-market advantage. We believe Chinese R&D spending will be increasing very fast. The government's 11th five-year plan has been announced, and the key theme is self-innovation, so we're trying to increase innovation in China.